Fidelity Increases Stocks in Target-Date Retirement Funds

By Margaret Collins -
Sep 26, 2013

Fidelity Investments, the largest
provider of 401(k) plans, is putting more stocks into its
target-date retirement funds in anticipation that returns for
bonds will weaken after a historic bull market.

Fidelity is increasing the allocation to equities by as
much as 15 percentage points for investors under age 67 and
shrinking the amount of fixed-income holdings for retirees, the
Boston-based firm said today in a statement. With the change,
Fidelity’s asset allocations will be more like those of its
primary competitors in target-date funds.

Target-date funds, the most common default option employers
offer to U.S. workers in 401(k) plans, automatically shift from
investments considered risky, such as stocks, to more
conservative assets like bonds as investors get older. With
interest rates rising from record lows and investors including
Bill Gross predicting an end to the 30-year rally in fixed
income, savers run the risk of subpar returns or even losses
from bonds if their allocation changes at the wrong time.

“It really does change the dynamic of buy it and put it
away both for the investor and the adviser of these target-date
funds,” Geoff Bobroff, a fund-industry consultant based in East
Greenwich, Rhode Island, said of rising interest rates. “We’re
going to see some new versions or different forms of
diversification in target-date funds.”

Fidelity holds $172 billion of the more than $556 billion
currently in U.S. target-date funds across the industry and the
largest market share with 31 percent, according to Chicago-based
researcher Morningstar Inc. (MORN) Target-date assets are expected to
double to $1.1 trillion by 2017, according to Boston-based
researcher Cerulli Associates.

Vanguard Group

The more-aggressive mix will bring the makeup of Fidelity’s
lineup closer to that of competitors Vanguard Group Inc. and T.
Rowe Price Group Inc. (TROW) The three firms dominate the target-date
market, together controlling about 75 percent of assets,
according to Morningstar data.

Equity allocations at Valley Forge, Pennsylvania-based
Vanguard’s funds are about 90 percent for those under age 40.
They decline to 50 percent at age 65 and 30 percent by age 72.

T. Rowe Price’s main target-date funds also have about 90
percent in stocks until age 40 and move to 55 percent at age 65.
Thirty years after retirement, the level drops to 20 percent.
The firm, which is based in Baltimore, introduced a more
conservative target-date series this year that moves to an
equity allocation of 42.5 percent by retirement.

Glide Paths

Providers use different asset mixes based on investors’
ages depending on what the firms call their glide path. Fidelity
manages the investments to replace about 50 percent of
investors’ final salary through age 93, said Bruce Herring,
group chief investment officer in the global asset allocation
division.

Fidelity is changing the mix to keep a 90 percent target
allocation to equities until workers get to age 48, compared
with about 75 percent by that time previously. The shift will
end at a low of 24 percent in stocks and about three-quarters in
fixed income or cash by the time investors reach age 84. The
changes will take effect on or about Jan. 1, Herring said.

The decision was based on the savings behavior of the more
than 12 million participants in 401(k) accounts Fidelity manages
and on the firm’s outlook for market returns, Herring said.

“Our expectations for bond returns are much lower than
they used to be,” said Andrew Dierdorf, co-portfolio manager of
Fidelity’s target-date strategies.

Surging Yields

The prospect of lower gains from fixed income increases the
importance of equities in achieving long-term goals, Dierdorf
said. Returns from bonds still are likely to outpace inflation,
he said.

The Fidelity Freedom 2020 Fund, a target-date product
designed for those who will reach retirement age in that year,
lost 0.3 percent from June through August, according to data
compiled by Bloomberg. During that period, the Federal Reserve
said it might reduce its monthly bond-buying purchases this
year, which sent benchmark 10-Year (USGG10YR) Treasury yields to as high as
2.89 percent from as low as 1.63 percent in early May.

Target-date funds were scrutinized after the global
financial crisis, when those designed for investors nearing
retirement lost an average of 37 percent as U.S. stocks slumped
from October 2007 to March 2009, according to Morningstar. The
funds labeled 2010 had recouped losses on average by 2011,
Morningstar said.

‘De-Risking People’

Even in the worst market declines of the last 100 years
investors have been able to recover their losses within 20
years, Herring said. That’s why Fidelity decided not to lower
its allocation to stocks until people came within two decades of
retirement age.

“We thought de-risking people in their thirties and even
early 40s was premature,” Herring said.

The target-date market has become increasingly competitive
since 2006, when the U.S. government declared the funds a
qualified default option for employers to use in 401(k)s.
Fidelity’s market share declined to 31 percent as of August from
48 percent in 2006, according to Morningstar.